QBecause of our financial situation, my mother purchased and holds title to the home where my husband, our three children and I live. Since the purchase three years ago, my husband and I have made all of the mortgage payments and have kept it in good shape.
Though our credit situation is still negative, we would like to have the property transferred to our names and assume my mother's mortgage obligations. However, we have been advised that a lender can use the "due on sale" clause in the mortgage documents and block this transaction. Could that happen?
AThe short answer is no. Federal law permits certain real estate transfers even though the loan documents contain the "due on sale" clause.
First of all, though, be sure your mother is completely on board with this transfer. Assuming she is, let's look at the "due on sale" concept through the prism of your situation.
Three years ago, when mortgage interest rates were very low, your mother purchased the property and obtained a mortgage at 5 percent interest. Now, rates are slightly higher -- and because you and your husband are a potential credit risk, you might have to pay an even higher rate if you had to get a new mortgage. Mortgage lenders are in the business of making money, and obviously they do not like to allow people to assume a low interest rate when rates are much higher.
In the current market, the difference in rates is minor. But decades ago, when mortgage rates were well into double digits, the industry came up with the concept of "due on sale." This clause, included in most mortgage loan documents, says in effect that if property secured by a mortgage is sold or transferred without the lender's written consent, the lender has the right to call the entire mortgage due.
This concept has been at the heart of a lot of litigation around the country. The great majority of the court cases have upheld the lender's right to enforce the due on sale clause.
But the Garn-St. Germain Act, passed by Congress in 1982, contains specific exceptions to that right. If the real property that has been mortgaged contains fewer than five dwelling units, a lender cannot enforce the due on sale clause under the following circumstances:
* A transfer in which the spouse or children of the borrower become an owner of the property.
* A transfer to a relative resulting from the death of a borrower.
* A transfer due to the death of a joint tenant or tenant by the entirety (that is, a spouse).
* A transfer resulting from a decree of a dissolution of marriage, legal separation agreement, or from an incidental property settlement agreement, by which the spouse of the borrower becomes an owner of the property.
* A transfer into an inter vivos trust in which the borrower is and remains a beneficiary and which does not relate to a transfer of rights of occupancy in the property (such as a Living Trust).
* The creation of a purchase money security interest for household appliances (for example, where you pledge your house to purchase a refrigerator).
* The granting of a leasehold interest of three years or less not containing an option to purchase.
* A subordinate lien that does not involve a transfer of rights of occupancy in the property.
You would fall under the category of a transfer where the children of the borrower become an owner of the property. Assuming your mother agrees, the lender cannot invoke the due on sale clause and stop you.
However, here are some suggestions before you proceed to transfer the property into your name:
First, do you really want to do this? Have you considered the tax implications of the transfer? Let's say your mother purchased the house three years ago for $200,000 and it is now worth $300,000. If you transfer the property, your tax basis will be your mother's basis; the law is very clear on that. Should you ever want to sell the property -- and depending on the tax laws at that time -- you might have to pay capital gains tax on that $100,000 difference. Under current laws, if you and your husband file a joint tax return, you can exempt up to $500,000 profit, if you have owned and used the property for two out of the 5 years prior to the sale. However, there is no guarantee that this law will stay on the books and you should discuss your plans with your tax adviser.
Second, there will be some costs involved in a transfer. Generally, a transfer between parent and child is exempt from state transfer and recordation tax. But you will have to pay someone, usually a lawyer, to prepare and record the deed. And there will be a nominal recording fee. Get a complete breakdown of all costs before you proceed.
Third, what is the current mortgage interest rate on the property? Since it is higher than rates currently being charged, you might want to consider having your mother refinance first, to take advantage of the lower rate. After that, you can transfer the property.
Finally, I strongly recommend that you advise your mother's lender of your plans. While they probably have no reason to challenge your decision, it is always best to keep the lender informed before you take any steps to change the ownership.
Benny L. Kass is a Washington lawyer. For a free copy of the booklet "A Guide to Settlement on Your New Home," send a self-addressed stamped envelope to Benny L. Kass, Suite 1100, 1050 17th St. NW, Washington, D.C. 20036. Readers may also send questions to him at that address.